FERC has declared in several enforcement proceedings that making energy trades that lack an economic or profit motive is evidence of a trader’s intent to manipulate the market. But what about the converse? Does an effort to earn a profit disprove manipulative intent? A recent FERC order says not necessarily.

FERC has declared in several enforcement proceedings that making energy trades that lack an economic or profit motive is evidence of a trader’s intent to manipulate the market. But what about the converse? Does an effort to earn a profit disprove manipulative intent? A recent FERC order says not necessarily.

In most of the market manipulation cases brought by FERC in the past three years, the agency accused a market participant of engaging in an unprofitable energy trade – whether physical, virtual, or financial – in the hope of improving a related position or generating market payments. For example, in an order issued last month, FERC accused City Power Marketing of making round trip trades and other spread trades with no intention of turning a profit. Rather, the trades were intended to garner PJM marginal loss surplus allocation payments. 

In another case, FERC contended that MISO Cinergy Hub Transactions flowed physical power to move prices at MISO hubs to enhance the company’s financial swap positions at the hubs. In both cases, FERC emphasized that the trades were not profitable or economically rational; indeed, over the long run they resulted in losses. FERC’s view was that the only purpose of the trades was to receive allocation payments or to improve related financial swap positions.

Given FERC’s consistent focus on the absence of a profit motive, a market participant might presume that as long as it attempted to make money on each of its trades, it would be insulated from a claim that it was trying to manipulate energy markets. An order that FERC presently is seeking to have enforced in federal court declares otherwise. FERC alleged in a May 29, 2015 order that Powhatan Energy Fund and others made large volumes of virtual wash trades for the purpose of capturing PJM marginal loss surplus allocation payments. The respondents argued that the virtual trades were intended to be profitable independent of any collateral consequences and thus could not be viewed as manipulative. 

FERC disputed that the respondents had a bona fide intent to make a profit on the alleged wash trades. But FERC also declared that proving a profit or other economic motive would not end the matter. FERC noted that in a 2006 order it had rejected “legitimate business purpose” as an affirmative defense. According to FERC, “fraud is almost invariably undertaken to make money.” As a result, the reasons given by a company for its trading patterns would merely be part of the “overall facts and circumstances that will be weighed in deciding whether a violation of the anti-manipulation regulation has occurred.” In sum, a profit or business motive is a necessary but not always a sufficient condition to avoiding a market manipulation charge. 

Companies actively engaged in overlapping energy trading products nevertheless would be well-served to document the economic or business reasons for individual trades that, standing alone, appear to make no sense. And given FERC’s disdain for after-the-fact rationales, the reasons should be documented contemporaneously with the trades. Although being able to show a profit motive or legitimate business purpose does not necessarily insulate a company from market manipulation charges, it certainly improves the chances of avoiding them.